Interest rate hikes on the cards?

Mon, 24 Feb Pre-Open

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So it turns out that the IMF does not believe that the policy scenario has significantly started to improve in India. This is quite the opposite of what the current government's view is; it believes that there is no situation of policy paralysis which is impacting growth. The IMF is of the view that the major factor for the slowdown in the country has been the slowing domestic economy. The same would be true given that exports contribute to a relatively small portion of the country's GDP.

'Heightened policy uncertainty' is how the IMF has described the factor behind economic slowdown in India. The multilateral agency has projected a slower growth in GDP as compare the estimates made by the government. Other factors - in its view - that have led to slower growth include supply bottlenecks, delayed project approvals and implementation.

Discussing the RBI's target of curbing inflation rates over the long term, the IMF believes that the central bank will have to hike interest rates in the short term for it to influence long term inflation rates. As per the Business Standard, the IMF's report mentioned "The ingrained nature of inflation and inflation expectations mean that reducing inflation - even over a protracted horizon - might require significant increases in policy rates,". It also added that such measures could impact the growth rates of the country.

This is, in a way, quite the opposite of what the Dr. Rajan had mentioned a while back. He had mentioned that any increase in rates would not be considered as long as inflation trajectory remains subdued.

Consumer inflation is highly influenced by fuel and food rates. For India to curb the same, more focus will have to be given on these two aspects. This is something that even the Indian authorities acknowledge.

Whether inflation rates will come down or whether the RBI will be able to meet is inflation targets over the long term are difficult to gauge. What investors can do is position their portfolios in a better manner. As you know, the real inflation adjusted returns on fixed income securities do not have the tendency to keep one's purchasing power intact. As such, it would only be wise for investors to keep the money aside that is required to meet short term obligations parked in such relatively safe instruments. For the balance i.e. that is that money kept aside for long term investments, a good mix between equities and gold (given the yellow metal's nature of being a good hedge against inflation) is warranted, with much more weight given to equities, in our view.